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Boom Bust Boom (2015)
This film is about
the Achilles heel of capitalism, how human nature drives the economy to crisis after crisis time and time again. Every generation thinks it's smarter than its parents and its grandparents, and it never proves to be the case. What happens is a crisis fades into memory and then it becomes history. That is the reason we often give for why we study history and why we teach history is to not have to repeat the mistakes of the past. You ever seen the State of the Union address where the president comes on and says, "Guys, we're fucked." These booms and busts will always be with us. It's in human nature that they would be with us. And I've said before, Mr. Deputy Speaker, "No return to boom and bust." ( all cheering ) ( footsteps ) The human strategies we're seeing in real markets are just evolutionarily really old. They're kind of leftover the strategies from 35 million years ago. WILLEM H. BUITER: It is very hard to, eh, understand why economists focus on models in which crises could not occur. They run the economy based on science fiction models. That's why they had no idea this crisis was coming because they ignored banks, debt, and money. ( clattering hooves ) GEORGE MAGNUS: We always thought how lucky we were that we never actually had to live through in the 1929 crash and the 1930s Great Depression, because we are cleverer now and we know how to avoid these kinds of accidents, and actually, a lot of economists were absolutely adamant that the worst would not happen because we know how to deal with these things. And, of course, the truth is, we didn't know how to deal with them. TERRY JONES: In 1928, President Calvin Coolidge gave his State of the Union address in the following terms: In the domestic field, there is tranquility and contentment... and the highest record of years of prosperity, the great wealth created by our enterprises and industry, and saved by our economy, has had the widest distribution among our own people. The country can regard the present with satisfaction and anticipate the future with optimism. ( all applaud ) ( singing ) TERRY JONES: He didn't know what we know now, that the United States was about to suffer the worst economic disaster in its then history. Our economy's healthy and vigorous, and growing faster than other major industrialized nations. The American people have turned in an economic performance that is the envy of the world. TERRY JONES: He didn't know what we know now, that the worst crisis ever to hit the Western economies was just around the corner. The crisis of 2008 is often referred to as the subprime crash. In less than 15 years, there was a huge rise in lending mortgages to people who basically couldn't afford them. Ladies and gentlemen, Harvey Rosen, Chairman of the White House Council of economic advisers speaking in 2007. The main that innovations in the mortgage market have done over the past 30 years is to let in the excluded, the young, the discriminated against, the people without a lot of money in the bank to use for a down payment. ( muttering agreement and affirmation ) JONES: This reckless lending to people who couldn't afford a mortgage became known as subprime lending, but the banks insisted they had eliminated risks by statistical processing. When you look at how banks managed risks, particularly before the crisis-- this is very interesting, and quite funny actually. What they did was to take risky assets, such as, um, junk mortgages, slice them into little bits, repackage them after mixing them with all the risky bits, and then sell them on to other banks and financial institutions. And so these risks became uh, dispersed in the financial markets, and nobody really knew anymore where the risks were or for that matter, nobody knew exactly whether the... package of financial products that he was buying, that he was investing in, was risky, whether it was very risky or not risky at all. JONES: They sold these packages to investors as very low-risk products. Banking organizations of all sizes have made substantial strides over the past two decades in their ability to measure and manage risks. So, because we could not observe risks anymore, we were telling ourselves, "There is no risk." What's even worse when you do this, risks become connected with each other. You don't know exactly how the risks are connected, but they are. In the pre-crisis period, we told ourselves a story about the bigger banks being able to spread their risk across their balance sheet, which would then allow us as regulators to enable them to run with lower safety margins. Everybody was happy and confident that the mortgage market had become more efficient than ever. And I have said before, Mr. Deputy Speaker, no return to boom and bust. Our economy is healthy and vigorous, and growing faster than other major industrialized nations. Everyone was convinced that this time, it's different. ZVI BODIE: The subprime crisis of 2008 was essentially a bubble bursting. They lent lots of money against houses. I've seen them in Gary, Indiana, in Detroit, Michigan, that you can now buy for ten grand. But they'd lent u-usually about a hundred grand, so that poor people who'd never, ever owned a house before could own a house. When we take your income and your wealth, you measure 620 on the FICO scale. 620? that's great. No, no, no, no, no. You see, we financial wizards reckon 850 on the FICO scale is good. And 300 is very, very bad. You see, most people score about 725 on the FICO scale, and I'm afraid 620 is usually our cut-off point. Oh, dear, so, I won't get my interest on the mortgage ( laughing ) Not so fast. You could still be eligible for a stated-income verified assets loan. What's that? That's where you state your income and we verify your wealth. Well, I'm worth one million dollars. Oh... Can you prove it? Not really. Look, we really want your money. Uh-uh, I mean, we really want you to have this interest-only mortgage. So, we can go down the stated-income, stated-assets route. What's that? You state your income and assets and we don't check them. Great! Well, eh, then-then that's all signed and sealed. Believe it or not, this scene or something like it, must have been played out numberless times. In 2004 to 2005, more than a third of all mortgages were no income, no jobs or assets, that were nicknamed "Ninja Loan." Hiyah! Hiyah! That's what this was about. It was about forcing loans onto people who would never repay them, who would end up getting foreclosed, in order to earn a fee on the origination and another fee when they were sold to some sucker who would take the loss. The whole thing becomes, eventually, a bit of a con trick because, everybody thought that asset prices would continue to go up. The unimaginable happened. Housing prices started to fall. That signaled to them that they could never pay that debt, because they were relying on the house price to rise as we all do in these bubbles. And then, um, like a, string of dominoes, the very risky lenders knocked over the risky lenders, knocked over the normal lenders, and then they all fell apart. Ain't got no home Ain't got no shoes Ain't got no money Ain't got no class Ain't got no skirts Ain't got no sweater Ain't got no perfume Ain't got no bed Ain't got no man JONES: The banks were taking on more and more risk, Investing in the financial economy instead of the real economy. The financial economy, as it's become, is essentially making money out of money, instead of investing in firms and companies and contributing to the real economy. So what happened to the banks and the insurance companies that got involved in the subprime lending? You can think of the-the the end of 2007. What happened? The bank starts looking a little more carefully at their balance sheet. They look at the assets they got and they say, "Wow, a lot of those assets are trash. "Okay, we know that these things are bad, "a high percentage of them, "and, um, some of our assets "are the I-O-U's of other banks. I wonder if their balance sheets are as bad as ours." And they started to think, "They probably are because we're all doing the same stuff." And then they say, " You know, maybe when that loan comes due, "we should call it in, "say we're not going to renew it anymore, "because we think, maybe, you could get in trouble and we wont get paid." Suddenly, all the banks started doing this. And, basically, that is when the global credit markets froze up. Banks wouldn't lend each other anymore. And so that turned into a massive liquidity crisis, and that is what set off the whole thing. So this layering of debt on debt, financial institutions owing other financial institutions, turns out to be extremely dangerous. News you're waking up to: the American investment bank Lehman Brothers has filed for bankruptcy in New York. That's happened in the last few minutes. It means the Wall Street institution, which has been in business for 150 years and survived the Great Depression, is now the most high-profile casualty of the credit crunch. JONES: It was not only Lehman Brothers that went bust. In the U.S., Citigroup were rescued by the U.S government with guarantees to the tune of 300 billion dollars. AIG were bailed out for a 182 billion dollars. The best things in life are free But you can give 'em to the birds and bees Bear Sterns was taken over by J.P. Morgan after the U.S. government secured them with a 30 billion dollar guarantee. Fannie Mae and Freddie Mac, government-backed mortgage lenders who were involved in the sub-prime mortgage lending, were rescued by the Federal Housing Finance Agency. Merrill Lynch was taken over by the Bank of America. In the UK, the Royal Bank of Scotland was bailed out by the UK government for 20 billion pounds, HBOS was bailed out for 13 billion pounds, and Lloyds for 4 billion pounds, on exactly the same day, October the 13th, 2008. Money don't get everything, it's true But what it don't get, I can't use Sir, another insurance company is going under. Now determining most prudent move for insurance company. ( chicken crowing ) Bailout! The most prudent move is a bailout! I remember sitting, um... uh, in a room. Bit like this one, at the Treasury, back in 2008, around the time of the Lehman crisis. We sat there. During the first half hour of that meeting, the share price of one of the biggest banks in this country fell by 50 percent. In the 2nd half hour of that meeting, the share price of that same bank rose 50 percent. We knew at that point, this wasn't Kansas anymore. I mean, if the 2008 crash didn't wake people up, um, I don't know what will. ( yawns ) Where do we go from here? How do we deal with these financial crisis? And one of the most important first steps is understanding where we've come from. Financial crises aren't some new thing that we're going into now. We've had many financial crises. The 19th century is filled with financial crises, and even the 18th and 17th and 16th century, and when you start looking at all these different examples of economies and their financial systems and their crashes, you start to get a much better understanding of what financial crisis is about. The seeds that were sown were the same seeds that were sown in all previous crises. So, if we look to what works and what doesn't, no better lessons are there than those from history. Tulip Mania started back in 1562, when a ship from Constantinople docked in Antwerp. Aboard was a cargo of tulips, the first to be seen in Europe. Oh, tulips, precious tulips I kiss you with my two lips Make me healthy, make me wealthy Tulips precious tulips The tulips proved to be a sensation amongst the rich merchants of Amsterdam, then embarking on their golden era. The merchants built grand houses surrounded by flower gardens, and the star of the show was the tulip. Tulips grew in prestige and popularity, and prices began to soar. By 1636, a tulip bulb could be worth a new carriage, two grey horses, and a complete harness. Some bulbs were reportedly changing hands over ten times a day. It seemed like everyone could make money if only they bought tulips. A kind of euphoria gripped everybody. But, on February the 5th, 1637, it all came to an end. At a tulip auction in Haarlem, in the Netherlands, only the sellers of tulip turned up. There were no buyers. Harlem was at that time in the grip of Bubonic plague, so perhaps that's why no one wanted to go out and buy tulips. But the damage was done. The bottom fell out of the tulip market. Bulbs that had commanded the price of 5,000 guilders sold for fifty. This is what economists call a bubble. Well, a bubble is a financial episode in which the price of assets, whether it's tulips, or equities, or gold, basically becomes completely detached from any intrinsic value. Being in a bubble, is like... yeah, it's a state of extreme hope and excitement and stupidity. And it can continue for as long as people believe that there is something magical or new about the valuation today. In every boom-and-bust cycle, there is a period of exceptionalism. "This time, it's different. Everything is different." And, there's always a cool excuse, and things like, "Well, you know, our demographics are different." Or, you know, "This time, interest costs really are very low." Or "inflation has been solved." Or, "Oh, there's a boom in gold mining." You know, tulips-- tulips were the first ones. "This is the first time you'll ever be able to buy these tulips. You must get in now." There's always a reason why you'd want to suspend your rational faculties and buy into this. Normally, it's because you look around, and you see everybody else doing it. In 1711, the British government was deep in debt, to the tune of 9 million pounds. A couple of entrepreneurs named Edward Harley and John Blunt devised a scheme to rescue the government. Instead of repayment, anyone to whom the government owed money was obliged to accept shares in a company called The South Sea Company. At the same time, the South Sea Company was given the exclusive right to the monopoly of trade with South America. Conveniently overlooked was the fact that Spain, with whom England was at war, controlled all the trade with South America and had done so for 200 years. But hopes were high, and the scheme was a phenomenal success. In 1713, the war ended. Spain then allowed Britain precisely one ship a year of no more than 500 tons to trade with South America, and one quarter of the proceeds was to go to the King of Spain-- not exactly a winning scheme for a bankrupt country. And, in 1718, the war with Spain broke out again, and the company's assets inside South America were seized, and any prospects of profit from trade disappeared overnight. But, unbelievably, hopes were still high. The South Sea Company talked up the value of its potential trade with South America, aided by politicians and members of the government, who were in on the act, and the price of shares rose from 128 pounds in January to 330 pounds in March, 890 pounds in early June, and finally 1000 pounds in early August. All good bubbles have to burst, and the South Sea bubble burst in a spectacular fashion. From 1000 pounds in August, the stock fell to a hundred by the end of the year. With the collapse of the stock price, thousands of people were ruined, including Sir Isaac Newton, who lost the equivalent of 2.4 million pounds, and about which, his niece reported he never liked to talk about. Newton said, "I calculate the movement of stars, but not the madness of men." I hope he included himself in that. The South Sea Bubble is a perfect example of what is called euphoria. One of the things we have to control is this tendency for people to go through these periods, a sort of mass euphoria and mass pessimism. When people become very optimistic about the future and they project this optimism into the prices of assets, there can be an asset bubble. And prices go up, and when prices go up, people say, "Oh, seems like people are optimistic about the future. I should be optimistic too." And so I buy those assets, and that pushes the price up a little more. Prices move completely out of line with any sort of reality or any earnings basis or, in housing market, any sort of income basis, and it becomes a self-fulfilling bubble. If you think you're investing in tulips because you can always sell the tulips to somebody else at a greater price, you're not investing, you're speculating. And there is a difference. One is... has a real impact on the economy, the other is just people handing money back and forth, and hoping, that after a while, when the music stops, they'll be the one who isn't holding the parcel, who is holding the money. And again, that's okay. Let them do that. But just don't do it with your family home and all your money. When you're in a bubble, you can't see outside of it, so there's no way of actually knowing or recognizing it as it's happening. It looks like success, it feels like success, which is even more dangerous. Bubbles of the past, you know how they ended. And, when they ended, you understood, where they had ended. This one hasn't ended yet, so it's completely different from your memory of the others. It's very hard to remind yourself of that in the boom times, because everyone else is making a lot of money, and you naturally wanna make a lot of money with them. And if you don't, in fact you're kind of a fool. It's one of the really great mysteries of economics that if everybody decides it's okay, it really is okay. And if everybody decides it's a disaster, it really is a disaster. So, everybody believing it is a certain way makes it a certain way. From the 1950s to the 1970s, John Kenneth Galbraith was probably the most famous economist in the world. Recurrent descent into insanity is not a wholly attractive feature of capitalism. J.K. Galbraith was vociferous about-- about speculative euphoria, and about why periods of speculative euphoria just keep on happening over periods of time. It's very much human behavior, but also our failure, uh, to be able to deal with the worst consequences of that euphoria. ( train chugging ) You cannot lose with the railways They are the coming thing So come and invest in the railways Great fortunes for all they will bring TERRY JONES: In the 1840s, railways were promoted as foolproof investments. Shares in them could be bought for a 10 percent deposit. The snag was that the railway company reserved the right to call in the remainder at any time. Thousands of investors on modest incomes brought large numbers of shares while being only able to afford the deposit. Families put their entire savings into prospective companies and lost everything when the bubble burst, without knowing they took ten times more risk than was reasonable, and nobody prevented them from doing so. The disreputable history of financial euphoria goes on and on. TERRY JONES: The '20s was an age of prosperity, but the wealth wasn't sharedevenly throughout the population. In 1929, the top five percent of the population received approximately one third of all personal income. Now the richest five percent of humans can't eat more than the rest of us, so they are compelled to spend their money on luxury items such as property or invest in stocks, thereby hoping to increase their wealth. Not only the wealthy, but middle class Americans were displaying what John Kenneth Galbraith described as... an inordinate desire to get rich quickly with a minimum of physical effort. TERRY JONES: The Stock Exchange in New York boomed. In May 1928, the volume of shares reached 5 million, an all-time record. The trouble was that many investors weren't using their own money. They were borrowing money to buy stocks. This is known in the financial world as "buying on margin." TERRY JONES: Say you have two hundred dollars and you borrow eight hundred more to invest a thousand dollars in stocks. If the price of stocks goes up 30 percent, you make a 150 percent profit. After you repay the eight hundred dollars, you now have five hundred dollars for yourself. But if the price of stocks goes down 30 percent, your stocks end up being worth only 700 dollars, but you still need to repay the 800 dollars. You now owe the bank a hundred dollars. The problem is that borrowing money to buy stocks, "buying on margin," although it amplifies the gains, it also amplifies the losses. You can end up owing money to the bank without having a penny left. TERRY JONES: By the end of 1928, folk were swarming to buy stocks on margin. In other words, speculation had taken a hold on people like never before. Never before or since have so many become so wondrously, so effortlessly, and so quickly rich. You might say what is the difference between speculation and gambling? Well, uh, a Journalist, Will Payne, explains in this edition of World's Work. A gambler only wins because somebody else loses. When you invest in stocks and shares, everybody wins. One investor buys shares in General Motors at a hundred dollars. He then sells it to another for 150 dollars, who sells it to a third for 200 dollars. Everybody makes money! TERRY JONES: It's like conjuring, continually pulling rabbits out of hats. And like conjuring, it's an illusion. What Will Payne forgot is that the stock prices could also go down. But as long as the price of stocks is increasing, everybody is happy to run with it. The illusion takes hold of formerly rational people. TERRY JONES: Such as the Chairman of the Democratic National Committee, John J. Raskob, who wrote an article entitled "Everybody ought to be rich." RASKOB: Anyone who saves 15 dollars a month, invested it in sound common stocks, and spent no dividends, would be worth some 80,000 dollars after 20 years. TERRY JONES: Raskob wasn't aiming his scheme at the middle classes, but at the ordinary working man. The press was unanimous in its praise of Raskob's Debt Speculation Machine, a practical utopia, the greatest vision of Wall Street's greatest mind. But not everyone was singing from the same hymn sheet. Roger Babson, an entrepreneur and business theorist, started to warn about a market crash as early as 1926. BABSON: Sooner or later a crash is coming. Factories will shut down, men will be thrown out of work. The result will be a serious depression. TERRY JONES : Paul Warburg was a banker and an early advocate of the U.S. Federal reserve system. PAUL WARBURG: If the present orgy of unrestrained speculation is not brought to a halt, there will ultimately be a general depression involving the entire country. Ah, Warburg's obsolete! Yeah, he's sandbagging American prosperity. TERRY JONES: Wall Street roundly denounced Babson and Warburg. The consensus of judgment of the millions whose evaluations on that admirable market, the Stock Exchange, is that stocks are not at present overvalued. The economic condition of the world seems on the verge of a great forward movement. Stock prices have reached what looks like a permanently high plateau. Where is that group of men with the all-embracing wisdom which will entitle them to veto the judgment of this intelligent multitude? This advert appeared in the Saturday Evening Post a few weeks before the meltdown of 1929. MAN: "In 1719, there was practically no way of finding out the facts. "How different the position of the investor in 1929! For now, every investor has at his disposal, facilities for obtaining the facts." 24 October is the first of the days which history identifies with the panic of 1929. That day, almost 13 million shares changed hands, many of them had prices which shattered the dreams and hopes of those who owned them. By 11:30, the market had surrendered to blind, relentless fear. Thousand of speculators who previously had only seen the market rising now discovered the problem with buying on margin, as brokers sent telegrams demanding huge amounts of cash. VINTAGE NARRATOR: This was the case in 1929 when the overinflated American economy, and the stock market which fueled it, crashed. By the end of the year, banks all over the country were closing their doors as frightened people clamored to reclaim their savings. To many, many watchers, it meant that their dream-- in fact, their brief reality of opulence-- had gone glimmering together with home, car, furs, jewelry and reputation. ( footsteps ) GALBRAITH: Tuesday, 29, October, was the most devastating day in the history of the New York Stock Market. ( paper rustling ) TERRY JONES: The 1929 Wall Street crash was a deep and prolonged crisis, different from some of the previous panics in history. It combined euphoria with massive borrowing. And speculation combined with borrowed money is the most toxic combination in capitalism. Yeah, yeah, I need the crystale dropping popping I need diamonds rocking rocking I need that money money I need that money, money I need that money, money We came out of the Great Depression with hardly any private sector debt. Households and firms were not very indebted, partly because they went bankrupt, partly because they paid down debt and for generations Americans were afraid to get into debt. Corporations were afraid to get into debt. Okay, but gradually over time because the economy performed fairy well, gradually the memories of the Great Depression faded and the new generations became more willing to borrow, both households and firms, and these debt ratios started to climb. In United States if you look at the long sweep of, uh, history, you'd discover that there have been two great peaks of private debt as a share of income. One of them occurred in 1929, the other one occurred in 2008. The road to financial crisis-- often at least-- begins with private sector getting careless about debt. Debts is all about debts, uh... people took on large amounts of debt hoping that sort of wonderful things would happen in the future that would allow them to repay them. Nothing is ever learned for long. We forget. People who learned that lessons, who lived those lessons, died. And their children viewed the Great Depression as, as a historical episode. But why does it happen time after time throughout the centuries? TERRY JONES: In the 1960s, '70s, and '80s, the economist Hyman Minsky proposed the financial instability hypothesis. -Hi, Dad. -Oh, hello, son. -Sit down. -Sure. -Now, listen up, Alan. -I'm all ears, Dad. The essence of the financial instability hypothesis is that financial traumas-- You mean crashes and such? Exactly. Occur as a normal function in a capitalist economy. This does not mean the economy is always tottering on the brink of disaster. I should hope not. What kind of sys-- Son, be serious. The normal functioning of an economy with a robust financial situation is both tranquil and on the whole successful. But tranquility and success are not self-sustaining states. You mean stability leads to more optimism and therefore more borrowing in stocks and houses. Uh-huh. And this leads to a transformation over time of an initially robust financial structure into a fragile structure. Wait, let me get this straight. After a deep depression, governments impose regulations on the financial world. There follows a period of stability, but the problem with this stability is that it breathes overconfidence. Overconfidence leads to financial euphoria, during which time the politicians relax the regulations. This then leads to excessive borrowing, and excessive borrowing and euphoric bubbles cause instability. By Jove, I think my boy's got it. Well, I've been hearing about it at the dinner table since I was six. Hyman Minsky used to say, uh, stability is destabilizing. It causes people to get overconfident, it causes people to forget about the underlying nature of the system, that it's inherently unstable, inherently unstable. But it's a powerful hypothesis. And the hypothesis is actually, basically that, there are long cycles in which people forget about the dangers of debt forget about the dangers of being a highly leveraged. That goes both for borrowers, for lenders, for government regulators, everybody, And the last financial crisis recedes into the fog of memory, and that sets you up for the next one. He predicted that financially complex capitalism creates crashes, creates massive booms and busts, that can on some occasions reach the scale of 1929. So, it, 1929, can happen again. That's "Minksy-anism." ( piano plays ) Hyman Minsky says a bubble's in three stages. The hedge participants are first in line. What they save or make or get Pays the interest on their debt The economy is looking pretty fine The second stage involves some speculation Speculators borrow cash to buy more shares And as long as the market rises There are no nasty surprises But when it falls It take them unawares Things have gotten really quite unstable This is where the dangerous stage begins People borrow more To pay their interest as before And in the end it's just the bank that wins But he was not himself, uh, a banker. Okay, he was not himself, so he had a bigger picture. He was able to step back from this and understand the system as a whole. For someone to write about financial instability in the late 1950's as he was doing, you know, this was a period that at least on the surface was the most financially stable period United States had ever had, and so it didn't seem like what he was saying was relevant, uh, to the kind of economy we'd developed. JOHN CASSIDY: And, all the guys in Harvard and MIT and Chicago and all the other universities who said, look, the financial system is perfectly stable, what are you talking about, Hyman? So, he was discredited, really, inside the profession. And then suddenly, 2008, everything goes to hell, the financial system has basically blown up the world, he's the man who warned that this could happen 25 years earlier, so everybody suddenly becomes a Minskyite. Anyone who read that stuff could've seen the crisis coming. So, the Queen asked, you know, "Why didn't you guys see it coming?" The answer is they didn't read Minsky. If they had read Minsky, they absolutely would have seen it coming. It was really clear. You know, this is what a boom looks like. This is in a euphoric... system. This is what these asset booms look like. Minsky was absolutely right. He was dead on. Which rather begs the question, how is it we forgot about not just his work but others' work, in the period prior to the crises. I don't just mean the three or four years, I mean the three or four decades when economics pursued a path that ruled out Minsky-type dynamics for what was going wrong. Like many other people in my economic profession, we probably didn't even know who he was. Well, Minsky was inconvenient. He operated always on the margins of the... hierarchy of the economics profession. Uh... and that made him... relatively easy to disregard. It's a paradox, actually, with my father, as to why he was ignored, because the very, perhaps, reasons he was ignored, were the very reasons he eventually became so celebrated. Hy Minsky was a remarkably warm individual. And, I don't know how many economists you've ever met, okay? But that's not particularly a trait that economists are well known for. In university lectures, when outside professors were brought in, Minsky would appear to be either asleep or reading the newspaper. But, as soon as the Q-and-A time came, it was always obvious he was the most brilliant person in the room, who actually knew what had been going on, and, um, knew what was wrong with it. Minsky was a brilliant man. I only, eh... went to a few of his lectures at Edinburgh and Cambridge, but he was very captivating. Even Minsky predicts that his warnings will again go unheeded and he will be forgotten. So it seems like now is the time when he's being remembered, and, hopefully maybe he's wrong, we won't forget what he is saying. One of the ironies about the 2008 crisis is that, um, Minsky's books were out of print. His last book, Stabilizing An Unstable Economy, as the crash was happening, and as asset prices were falling, uh, the price of his book was being bid up and up and up, because everyone wanted to read his book about the, uh, about the crises that was happening. Stability leads to instability. Euphoria makes us blind. And we take irresponsible risks that eventually lead to disaster. So stable and booming markets make us blind to the increasing risks. But can we measure this blindness? Well, yes. There is an index based on the price people are willing to pay for protection against the market crash. This is the market traded price of risk. And what is interesting is that this price of risk actually declines to very low levels during periods when stock markets go sky high and instability grows. So our perception of risk runs contrary to the actual risk. In the crash of 2008, the price of risk was at its lowest level ever. You're not allowed to teach that in universities. You can, but you won't get a chair of economics at a major, prestigious, global university. Only the economics that says capitalism's stable can be thought at these universities. The conventional economic model which is used to run the economy is known as the free market, or neoclassical economic theory, and it is based on the idea that we are all rational when it comes to money, that the economy will always find itself in an equilibrium, and the bubbles simply can't happen. Neoclassical economics is this wonderful thing. It's useful, actually. I use it myself all the time. It says, let's posit a world of perfectly rational people operating in perfectly competitive markets and see how they interact, and see what kind of, you know, properties. And, it turns out that if the world really was like that, there would be all kinds of nice things. So economists, uh, think about the world using, uh, models. And what does that mean? Okay, that's a simplified version of the world, um, taking out one or two or maybe three essential features of the world and acting as if those are the only features of the world, and, and building-- building out the consequences of those three kind of features. Models are just stories. You know, they say, if you do this, then that will happen. That's all they are. If you choose the three most essential features, then you have a good model. If you choose three features that are not very essential, then you have a model that's not really gonna help you with your problem. It's a useful-- it's an intuition pump, right? It helps you think about why markets sometimes work really well, helps you think about something. But if you start to believe that it is not a... helpful, ah, fairytale, but actually the truth, then you're in big trouble, because the world doesn't work like that, and at times like this, depression times, it really doesn't work like that. So neoclassical economics is a potential trap. So if I put it really at its simplest, you build a model where you say, we assume depressions are not possible. That unfortunately, is not the world we live in. Conventional economists don't like to model debt into their economic models because debt makes the models unstable, so they omit it altogether. It's modeling what is easier to model rather than what is happening in the real world. They-they will not break away from this 19th century, uh, heuristics that they thought would make it easier to solve the problem. In fact, they've made it far harder, and it's why they had no idea this crises was coming because they ignored banks, debt, and money. It was a serious, serious professional problem. We had a situation-- to compare it to doctors for a second, real doctors. We had a situation where the patient was bleeding, but we didn't really recognize the presence of blood. Like, it's that serious, you know. Why doesn't it appear ridiculous to economists to use models without money? Uh, I'm an economist myself, and it does appear ridiculous to me. So, there's at least one exemption to that, and quite a few others to be sure. It is very hard to, uh, understand the reasons why economists focused on models, eh, in which crises, eh, could not occur, were impossible. I think economics has this lure that the moment we can explain something in a beautiful model, it's just elegant. And you want the world to be elegant. One dream One soul One prize One goal One goal One golden glance Of what should be It's a kind of magic One shaft Of light That shows the way No mortal man Can win this day It's a kind of magic The bell that rings Inside your mind Is challenging The doors of time The waiting seems Eternity The day will dawn Of sanity is this a kind of magic? I think deregulation has about it a sort of natural bubble, which is that when you allow people a massive amount of freedom, they enjoy it. Key parts of the regulatory apparatus were being run by people who didn't believe in their job. They-- they believed that their job was to get out of the way of the banks, or to-- or even to help the banks, but not to-- not to protect us from-- uh, from banks gone bad. We had a banking system with regulators who encouraged risk-taking. They positively encouraged and rewarded risk-taking, and politicians stood up and said that not just risk-taking is all right, guys, they said the risk-taking is good. The riskier the better. We are sure that everything Is hunky-dory, that's our story Everything will work out fine Like good wine, it just needs time Market freedom is the thing To cure all ills and that's why we sing Keep the markets free, free, free For all eternity, that's the only way to be We have a free market ideology that says the more you remove the state from the market, the more the market is allowed to do what it does, which is to-- to bring millions of decisions by people, every day, together, in a way that provides a rational outcome. So, the market is our collective rationality. I suppose the free market ideology is where you have a fundamental belief that markets are the optimum way to create wealth and to distribute goods and services throughout society. CASSIDY: Alan Greenspan sort of exemplified the rise or the comeback of free market economics after it had been discredited in the 1930s. You can really trace the whole rise of it through his career, actually. He was a man who had, for decades, applied a certain way of thinking. And... and he was-- And he made very significant decisions that influenced the economy of the world based on that framework. Alan Greenspan, I think, had deep, deep belief in lack of regulation. Right? And, so, he basically, eliminated many of the regulations, allowing all the economic agents to act as they wished. And that framework assumed that-- that the agents in the economy are rational... including banks. There is a book called Maestro written about him, describing him as a genius for not having listened to naysayers who said, "You should slow this expansion down." KRUGMAN: The crash was, in fact, the proof that the Greenspan view that markets were self-policing, self-regulating was all wrong. CASSIDY: So, he was hauled before Congress to, you know, say, well, you know, "You've been telling us all for years we don't need financial regulation, we don't need to worry about the market. What went wrong? Did anything go wrong?" And he said, "Partially. Something partially went wrong." And they said, "What would you mean by that Mr. Greenspan? You know, uh, what partially went wrong?" You found a flaw in... reality-- GREENSPAN: The one flaw in the model that I perceived as the critical functioning structure that defines how the world works, so to speak. In other words, you found that your-- your view of the world, your ideology was not right. -It was not working. -GREENSPAN: That it. How do I-- Precisely. You know, I-- That's precisely the reason I was shocked because I've been going for 40 years or more with very considerable evidence that it was working exceptionally well. Quite amazing when he said that my view of the world was wrong. it was a startling admission, an indication that... perhaps there was some-- some humility and hope for redemption um, in Mr. Greenspan, which turns out to have been untrue. Uh, almost immediately, he went right back to pronouncing with great certainty and impeccable wrongness about everything. CUSACK: We really, sort of, made people like Greenspan these, kind of, holy bishops, and every word that they said was reinforced. I mean, they were popes or something, or cardinals. And, so, I think for this guy to come-- come on and have to admit that basically everything that he believed was wrong, um, just shows you that this is a-- this is a joke. You're all individuals! ALL: Yes! We're all individuals! You're all different! Yes! We're all different. -MAN: I'm not. -ALL: Shh! Shh! If you try and read economies purely rationally, I think that's a real mistake because economies operate with a herd mentality, sure. But it's a herd made up of human beings who are very you know, complicated, and sometimes irrational. I think the market is not our collective rationality. It can be, but it can also be our collective irrationality, and what was wrong with economics is that it ruled out the possibility of irrational outcomes. That's the thing about free market economics. It is a sort of ideology, and once you start believing in it, um, it does sort of provide a sort of framework to explain the world. And they were sort of trapped inside their own ideologies, really. JONES: I guess it's about time to factor human nature into economics. We've come to Puerto Rico to go to that island, over there, Monkey Island. Monkey Island is a very funny place in Puerto Rico. It's an island just off the southeast coast that's home to about a thousand free-ranging rhesus monkeys. It's a wonderful place to really observe monkey behavior in the wild and set up studies to study how irrational they are sometimes. I think, 'cause I study monkeys, people think I'm interested in monkeys. But really, I'm interested in people, and I find that monkeys are this fascinating window into what people are like. You're down here, you're watching them, like, hang out with their friends, and groom, and strive for power, and getting resources, and, like, it's just this little evolutionary microcosm of what we're like without language and cellphones and all this stuff of the 21st century. One of the things we really wanted to do to understand human choice is to see if monkeys would make some of the same smart decisions and bad decisions. It tells something about where we came from evolutionarily and how we're designed to make decisions. So we introduced the monkeys to their own new monkey currency. I've one here. It's a monkey-- It's got little bite-marks on it. Um, but this is the monkey currency. We gave it to them and taught them they could trade these with humans for food. I believe it's the only non-human currency in the world. It is, in fact. It's probably very-- It's worth a lot, so I'm gonna keep it in my pocket. SANTOS: First they just traded with one person. They got good at that. And now, they get actually, a choice of people, and they get to pick who they want to trade from. And each person in the market, sort of, shows the monkey, in a little dish, you know, "Here's what you can buy." And then, uh, the monkey just gets to choose. And they have a little wallet of tokens that they can, kind of, spend between the experimenters. The monkeys meet experimenters who don't always give the same amount of food that they show. So, they have one amount of food in their dish, but then, they can, kind of, vary over time. Um, so, the monkeys can, uh, say, meet an experimenter who looks like he's selling one grape, which seems like a pretty good deal, but every time the monkey pays him, the monkey actually gets two. So, the monkey's like, "Wow, this is great ...," right? The monkeys also meet this other guy and they realize this guy starts with three grapes. He looks like he's a really good deal. But every time the monkey pays him, he takes one away to give the monkeys just two. Now, both of these guys, the guy that, you know, looks like he's giving one but he gives two, versus the guy that looks like he's giving three but gives two, they ultimately give the monkey two, right? If the monkey was being rational, he would just shop randomly between the two. But what we find is that the monkeys overwhelmingly shop at the guy who starts with one and gives them two-- the guy who looks like he's giving a bonus-- even though, in fact, the monkeys are getting the same amount of food. JONES: I'm going back to the 2008 crash. What-- what effect did that have on your research? Oftentimes when you study monkeys, you're studying, uh, whether the monkeys can do all the smart things that humans do like tool use and language and all these incredibly smart things that people do. And often, the monkeys come up a bit short. And, so, it was really a game-changer for the research because we could now ask the question, not "Are monkeys similar to humans because monkeys are so smart?" We could ask, "Are monkeys similar to humans because in some ways they're so dumb?" Uh, my colleague, Keith Chen, is fond of saying, you know, if you plotted the monkey's data and you didn't know the data were from a monkey, you would just expect that they were from a real human market. The human strategies we're seeing in real markets are just evolutionarily really old. They're kind of leftover strategies from 35 million years ago. KAHNEMAN: Not only do people value outcomes as gains and losses, they value losses a lot more than gains. But it leads to this bias where losses, these changes that go in the negative direction, we go in the red, they just feel emotionally more powerful than these changes in a positive direction, and that can lead us to do all kinds of crazy things. We're so trying to avoid these small relative changes in the red that we do things like take on more risk. JONES: What can we do about that? SANTOS: The idea is that we just have to admit that we have these biases, that they're old and hard to get rid of, and then we kind of have to design policies and markets and systems around them. I'm quite skeptical about the idea that individuals can make themselves smarter or can make them de-bias themselves. A little, not much. On the other hand, I think organizations, if they are very conscious of what they want to accomplish, they, quite possibly, can put in place procedures that will protect them from different kinds of errors. We change the system rather than our behavior. Yeah, like, I mean, we've had these strategies for 35 million years. That is an evolutionary enormous amount of time. We're not gonna just kind of override them because in 2008, we did some dumb things. Like, those things are here to stay. We're gonna be much better off if we change the system around those biases. So, hey, we're not rational, but we can be smart enough to set up the system to allow us to thrive even though we have these biases that are a little bit dumb. The real problem here is not the particular events that kicked off the crash in 2008, the real problem is the way the banking system is designed. There are two things, really, about it. I mean, one is to understand the systemic nature of financial instability. But the other part of it, actually, is if you do understand the systemic nature of instability, then, lots of other things have to change. If you are determined to make sure that it-- it doesn't come back uh, you know, within ten or 15 years and-- and bite you in the backside again. We've come up, as human beings, with the most fragile design of financial system we could possibly think of. So, we need to re-think what we need a financial system for, and then design one that will, uh, provide those various functions. And that might mean separating out the retail, the basic banking stuff, from the rather higher-octane investment banking stuff. And then, we can have another part of the financial system that does riskier stuff, but we don't allow them to, you know, take funds away from households, from firms, from pension funds. We can redesign cars, so why can't we redesign the economic system? I got a hundred-dollar check from my grandma, and my dad said I need to put it in the bank so it can grow over the years. Well, that's fantastic. A really smart decision, young man. We can put that check in a money market mutual fund. Then we'll reinvest the earnings into foreign currency accounts with compounding interest, and it's gone. Uh, what? It's gone. It's all gone. -What's all gone? -The money in your account. It didn't do too well. It's gone. What do you mean? I--I have a hundred dollars! Not anymore you don't. Poof. Well... But what can I do to get back my-- I'm sorry, sir, but this line is for bank members only. I just opened an account. Do you have any money invested with this bank? No, you just lost it all. Then please stand aside for people who actually have money with us. Next, please. Today there, the crisis in particular has caused a lot of students to want to learn economics. This happened with the Depression generation as well. Many of the people, like Hyman Minsky, came into economics because of that experience of their childhood. They felt this was something important that they needed to understand. They didn't find the economics that they were taught to be very helpful. The average Ph.D. economist would train for five years, and they would never learn anything about the history of the economic system that had preceded them. If you would spend the class, uh, for a whole semester, and you learn about one financial crisis after another, it might occur to that student that financial crises are a regular part of an economy, whereas if you don't really make that the focus and you kind of mention, "Yeah, oh, yeah, there was a crisis here, there was a crisis there," it's a lot easier to convince a student that crises aren't natural, that it's some fault of a government or some particular action that caused the crisis in this peculiar situation, but that's not the normal tendency of an economy. WOMAN: We're all undergraduates at the University of Manchester, and we're members of the Post- Crash Economics Society. We set up at the end of last year 'cause we feel that our economics education so far has been quite limited. One of the main issues is that economics has been caught in this trap where... uh... Funding for universities is entirely determined, well, by and large determined, by research. And the research that is going to get published is the mainstream, is neoclassical economics. As a result, that's what we're being taught. The beauty of science, of true science, physics, chemistry, is that there is a-- there is a debate between key theorists, between, you know, different ideas. Whereas, in economics, that debate simply isn't big enough, or it's not large enough, and that's what we're fighting for. Our education produces economists who do believe that their type of economics is the only way to do economics. I mean, there's very little of our degree which is devoted to analyzing what happened in 2008 and what happened in the 1920s, which I think must be a fundamental part of any economics degree. -Yeah. -It's embarrassing... going home and people asking, "Oh, so you do economics? What happened in 2008?" And I can't tell them. What I think we'd all like to see is, you know, economists with a critical mind coming out of university, and into the city and into public policy. And you'll have-- and hopefully you-- you'll have policy that reflects as well. You'll have a financial sector that reflects that rather than just, you know, this one-dimensional myopia. We want to be economists and we want to see economists coming out of universities that can engage with the real world economy, whereas at the moment we don't feel we can. That's what we think is the point of economics. I think that's sort of gotten lost somewhere. The way you change the teaching of economics is to change the teachers. It's as simple as that. You're not gonna get into a situation where... the teachers who spent decades building up expertise in very mainstream approaches are going to simply say, "Oh, yes, well, that was all a complete waste of time. I'm gonna go do something else." They simply won't. Right. Now, listen up. ( grunting ) And so, what I think is, the professors start parroting these party lines. I think you should just pelt them with vegetables and rotten fruit, and maybe urinate on them. That's what, I mean, that's what I'd do. And there's gonna have to be a different approach to how this stuff is taught. It shouldn't be taught as branch of physics. It should be taught as a piece of history, or as an idea that economics is again a social thought. It's something that we all do together. I--I was at a conference once with a, uh, economist from Freddie Mac. That's one of the agencies that failed in the 2008 crisis. I asked him about-- this was before the crisis-- about what kind of planning they had been doing for a crisis. And he said confidently, "We have it planned. So, we have figured out what would happen to us even if home prices fell dramatically, and we would survive the storm." And I said, "Well, how much is dramatically?" He said, "Well, we've figured out what would be the effect on us if home prices fell 13%." And I said, "Well, what if they fall more than 13%?" And then, he said, "What do you mean? They've never fallen that much." He said, "Well, not since The Great Depression." One of the things that we learn from the study of history is that people learn nothing from history, or they tend to repeat the mistakes of the past, and I think that's because of human nature. ( music playing ) We're here forever blowing bubbles Pretty bubbles in the air They fly so high Nearly reach the sky They're like my dreams they fade and die ( groaning ) Fortune's always hiding We've looked everywhere We're forever blowing bubbles Pretty bubbles in the air We're dreaming dreams We're scheming schemes We're building castles high They're born anew Their days are few Just like a sweet butterfly ( sighs ) And as the daylight is dawning They come again in the morning We're forever blowing bubbles Pretty bubbles in the air They fly so high Nearly reach the sky They're like my dreams they fade and die Fortune's always hiding We've looked everywhere We're forever blowing bubbles Pretty bubbles in the air We're forever blowing bubbles Two, three, four Pretty bubbles in the air They fly so high Nearly reach the sky Then like my dreams They fade and die Fortune's always hiding - We've looked everywhere -( groaning ) We're forever blowing bubbles Pretty bubbles in the air Pretty bubbles in the air Yeah ( music playing ) Financial instability hypothesis Boom boom boom boom I need the crystal drop and poppin' I got diamonds rockin' rockin' A boom-bust boom-bust keep bumpin' Minsky wasn't no chump, said somethin' Greedy motherfuckers need to hear Shit's going on here all year Blowin' bubbles, makin' ninja loans Maybe greed's just in the bones Blowin' bubbles makin' ninja loans Maybe greed is just in the bones Boom bust boom bust Leaving brothers ghost town Negative equity take down Boom bust boom bust Subprime toxic downtown Double dip, triple-A meltdown Pile of tulip maniacs, free market brainiacs Wall Street apes buyin' two-for-one grape sale Never learnin' just turnin' Stamping papers on the bridge then burn it - Gimme, gimme that - Money, money - Need to get that - Money money - I wanna get that - Money money - Gimme, gimme that - Money money Blowing bubbles makin' ninja loans Maybe greed is just in the bones Blowing bubbles makin' ninja loans Maybe greed is just in the bones Hyman Minksy never lied John Cusack never lied Mr. Krugman never lied Ted Crocker never lied Terry Jones never lied Bill and Ben never lied Justin Weyers never lied Chris and John never lied ...never lied Andre never lied ...never lied Triple-A meltdown Financial instability hypothesis boom Financial instability hypothesis boom Financial instability hypothesis boom Financial instability hypothesis boom |
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